Notes on the Two Standard Theories of Macroeconomics...

When spending is less than incomes, inventories pile up, firms fire people, and incomes fall until spending equals incomes.

When spending is greater than incomes, inventories fly off the shelves, firms hire, people, and incomes rise until incomes equal spending.

Prices and wages are somewhat "sticky" and so fluctuations in spending and incomes show up in the "short run" primarily as fluctuations in production and employment and not as fluctuations in wage and price levels.

Spending depends on incomes, confidence, and interest rates

Spending comes in four categories: consumption spending C by households, investment spending I by businesses seeking to add to their capacity, government purchases G, and net exports NX.

I = I0 + (Iy x Y) - (Ir x r): business investment depends on business animal spirits, on whether strong demand is putting pressure on capacity, and on the interest sensitivity of investment times the long-term risky real interest rate r.

G

NX

Y = C + I + G + NX

Y = [c0 + G + NX + I0 - (Ir x r)]/[1 - cy - Iy]

Monetarist:

When the money stock is too low given the level of velocity, people cut back on spending, inventories pile up, firms fire people, and incomes fall.

When the money stock is too high given the level of velocity, people increase spending, inventories fly off the shelves, firms hire people, and incomes rise.

Prices and wages are somewhat "sticky" and so fluctuations in spending and incomes show up in the "short run" primarily as fluctuations in production and employment and not as fluctuations in wage and price levels.

V = v0 + (vi x i): velocity is equal to a baseline term times the interest sensitivity of velocity times the short-term safe nominal interest rate i.

Y = (M/P) x v0 + ((M/P) x vi x i)

Note that neither of these theories seems to have an obvious central role for financial markets--financial markets feed each of these models an interest rate--the long-term risky real interest rate r in the Keynesian model, and the short-term safe nominal interest rate i in the monetarist model.

Which of these theories is correct? Both--they are both (nearly) tautologies...

Which of these theories is most useful in understanding the coming of the Great RecessionLittle Depression of 2007-2012? Neither--for all the action goes on behind the scenes, in the determination of I0 and r in the Keynesian model and in the determination of v0, vi, M, and in the monetarist model.

How, then, should we analyze the coming of the Great RecessionLittle Depression of 2007-2012 at a freshman seminar level?

Comments

When spending is less than incomes, inventories pile up, firms fire people, and incomes fall until spending equals incomes.

When spending is greater than incomes, inventories fly off the shelves, firms hire, people, and incomes rise until incomes equal spending.

Prices and wages are somewhat "sticky" and so fluctuations in spending and incomes show up in the "short run" primarily as fluctuations in production and employment and not as fluctuations in wage and price levels.

Spending depends on incomes, confidence, and interest rates

Spending comes in four categories: consumption spending C by households, investment spending I by businesses seeking to add to their capacity, government purchases G, and net exports NX.

I = I0 + (Iy x Y) - (Ir x r): business investment depends on business animal spirits, on whether strong demand is putting pressure on capacity, and on the interest sensitivity of investment times the long-term risky real interest rate r.

G

NX

Y = C + I + G + NX

Y = [c0 + G + NX + I0 - (Ir x r)]/[1 - cy - Iy]

Monetarist:

When the money stock is too low given the level of velocity, people cut back on spending, inventories pile up, firms fire people, and incomes fall.

When the money stock is too high given the level of velocity, people increase spending, inventories fly off the shelves, firms hire people, and incomes rise.

Prices and wages are somewhat "sticky" and so fluctuations in spending and incomes show up in the "short run" primarily as fluctuations in production and employment and not as fluctuations in wage and price levels.

V = v0 + (vi x i): velocity is equal to a baseline term times the interest sensitivity of velocity times the short-term safe nominal interest rate i.

Y = (M/P) x v0 + ((M/P) x vi x i)

Note that neither of these theories seems to have an obvious central role for financial markets--financial markets feed each of these models an interest rate--the long-term risky real interest rate r in the Keynesian model, and the short-term safe nominal interest rate i in the monetarist model.

Which of these theories is correct? Both--they are both (nearly) tautologies...

Which of these theories is most useful in understanding the coming of the Great RecessionLittle Depression of 2007-2012? Neither--for all the action goes on behind the scenes, in the determination of I0 and r in the Keynesian model and in the determination of v0, vi, M, and in the monetarist model.

How, then, should we analyze the coming of the Great RecessionLittle Depression of 2007-2012 at a freshman seminar level?

The Most-Recent Thirty

Probably Worth Reading...

We Are with Her!

Looking Forward to Four Years During Which Most if Not All of America's Potential for Human Progress Is Likely to Be Wasted

With each passing day Donald Trump looks more and more like Silvio Berlusconi: bunga-bunga governance, with a number of unlikely and unforeseen disasters and a major drag on the country--except in states where his policies are neutralized.

Nevertheless, remember: WE ARE WITH HER!

Definitely Worth Reading...

Blogging: What to Expect Here

The purpose of this weblog is to be the best possible portal into what I am thinking, what I am reading, what I think about what I am reading, and what other smart people think about what I am reading...

"Bring expertise, bring a willingness to learn, bring good humor, bring a desire to improve the world—and also bring a low tolerance for lies and bullshit..." — Brad DeLong

"I have never subscribed to the notion that someone can unilaterally impose an obligation of confidentiality onto me simply by sending me an unsolicited letter—or an email..." — Patrick Nielsen Hayden

"I can safely say that I have learned more than I ever would have imagined doing this.... I also have a much better sense of how the public views what we do. Every economist should have to sell ideas to the public once in awhile and listen to what they say. There's a lot to learn..." — Mark Thoma

"Tone, engagement, cooperation, taking an interest in what others are saying, how the other commenters are reacting, the overall health of the conversation, and whether you're being a bore..." — Teresa Nielsen Hayden

"With the arrival of Web logging... my invisible college is paradise squared, for an academic at least. Plus, web logging is an excellent procrastination tool.... Plus, every legitimate economist who has worked in government has left swearing to do everything possible to raise the level of debate and to communicate with a mass audience.... Web logging is a promising way to do that..." — Brad DeLong

"Blogs are an outlet for unexpurgated, unreviewed, and occasionally unprofessional musings.... At Chicago, I found that some of my colleagues overestimated the time and effort I put into my blog—which led them to overestimate lost opportunities for scholarship. Other colleagues maintained that they never read blogs—and yet, without fail, they come into my office once every two weeks to talk about a post of mine..." — Daniel Drezner